While the government had freed petrol price from its control in June 2010, it had started a phased deregulation of diesel rates in January last year with up to 50 paise a litre increase in rates every month.

Under-recovery, or the difference between retail selling price and its imported cost, has since come down to Rs 1.78 a litre and going by the international trend the pump rates will be at par with their cost by end of October.

"Once this happens, a proposal would be put to the Cabinet Committee on Political Affairs for deregulation of diesel prices as was done for petrol," an official said.

Deregulation would empower state-owned oil firms to change rates in tandem with cost like they do for petrol.

But before that, the Ministry is approaching CCPA for changing under-recovery burden sharing by oil firms, he said.

Currently, state fuel retailers sell diesel, domestic LPG and kerosene at government controlled rates which are way below their cost. The loss they thus make is made good by government through cash subsidy and upstream firms like Oil and Natural Gas Corp (ONGC) by way of discounts on crude oil.

The official said the under-recovery burden imposed unilaterally on upstream oil companies by the government has increased from Rs 32,000 crore (30 percent of total under-recovery) in 2008-09 to Rs 67,021 crore (48 percent of total under-recovery) in 2013-14.

This has significantly constrained the capacity of these companies to invest in exploration for oil and gas.

Recently, they have also been directed to pay 20 percent royalty to state governments on pre-discounted price of crude oil and not post-discount rates is practice since 2008.

"Energy security of the country will be jeopardised if the funds generated by upstream oil companies are diverted to meet the under-recoveries on top of oil cess and enhanced royalty burden instead of making investment in the exploration business," the official said.

The Ministry is proposing that the fuel under-recovery be split equally between the government and upstream firms – Rs 98,622 crore estimated for current fiscal be borne in 50:50 ratio by the government and ONGC/OIL.

However, in case of ONGC/OIL their under-recovery payout would be after accounting for oil cess paid by them to the government, he said adding 50:50 burden sharing would have meant the two firms paying Rs 49,311 crore but they will now be required to pay only Rs 39,200 crore after adjusting Rs 10,111 crore oil cess paid.

The Ministry projected government subsidy payout at Rs 59,422 crore for 2014-15, lower than Rs 70,772 crore last fiscal and Rs 100,000 crore in 2012-13.